You Can Tap an IRA Penalty-Free to Buy a Home. Here's Why You Shouldn't.

There's a reason it pays to save for retirement in an IRA. These accounts give you a couple of helpful tax breaks in the course of building a nest egg.

First, contributions to a traditional IRA get to go in on a pre-tax basis. That allows you to shield some income from taxes. Also, investment gains in an IRA are tax-deferred, so you don't pay taxes until you're ready to take withdrawals.

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But there are some drawbacks to saving for retirement in a traditional IRA. First, you'll eventually be forced to take required minimum distributions. Secondly, you'll have to leave your balance alone until age 59 and 1/2 or otherwise risk a 10% early withdrawal penalty.

There's an exception to that rule, though, for first-time homebuyers. In that case, you can take up to $10,000 out of your IRA at any age, and you won't be charged an unwanted penalty. But just because this option exists doesn't mean you should exercise it.

The problem with using an IRA to buy a home

Given today's home prices, it's easy to see why you may want to tap your IRA to come up with your down payment. But while taking a $10,000 IRA withdrawal might seem like an innocent enough move, it could end up backfiring in a serious way.

First, if you're struggling to save for a home, to the point where you need your IRA to fund your down payment, you risk becoming a homeowner at a time when you don't have adequate emergency savings. That could put you at risk of debt if things break and you need to make repairs.

Also, any money you remove from your IRA ahead of retirement is money you won't have available in retirement. And remember, when you take an early withdrawal, you lose out on the opportunity to grow that sum into more money.

Let's say you have $50,000 in your IRA, and you take out $10,000 to buy a home. You might think, "Well, I'm leaving most of my retirement savings intact."

But if your IRA delivers an 8% yearly return, which is a bit below the stock market's average, and you're 25 years away from retirement, that $10,000 withdrawal could cost you more than $46,000 when you factor in lost gains.

Last year, Fidelity put the average IRA balance among baby boomers at $257,002. So in that context, coming up short to the tune of $46,000 could be a huge deal.

You're better off saving and waiting

Tempting as it may be to tap your IRA penalty-free to buy a home, you may want to reconsider and save longer for your down payment. That may not be your first choice, but raiding your IRA early is a more you might sorely regret down the line, even if you aren't penalized for it. And after working hard to fund that IRA in the first place, the last thing you want to do is put your retirement at risk.

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